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How does margin trading work?

Modified on: Wed, 5 Sep, 2018 at 10:41 PM

Margin trading is essentially trading with borrowed funds instead of your own. When you place a margin order, all of the money you are using is borrowed from other users offering their funds as peer-to-peer loans. The funds in your margin account are used only as collateral for these loans and to settle debts to lenders.

If you are new to margin trading, there are a few terms and concepts you may not be familiar with. Let's go over them by looking at the changes to the user interface.

Accounts

With the addition of margin trading, you now have three separate accounts in which you can store your deposited funds: exchange, margin, and lending. Your exchange account holds the funds you use for regular trading on the Exchange tab. Your margin account holds collateral used to secure loans used in margin trading. Your lending account holds funds you can loan to other users and earn interest on.

When you deposit funds, they first go to your exchange account. In order to margin trade, you will need to transfer some funds to your margin account at the Transfer Balances page. You may fund your margin account with any currency for which margin trading is enabled.

Positions

When you borrow funds and make a trade, a position will open. If you buy, you are opening what is called a long position. If you sell, you are opening a short position. Note that as you continue to trade, your position may change; for example, if you open a short by selling 300 XMR, but then buy 600 XMR, your short will become a long. When you close your position, your loans are settled automatically. If you close your position at a profit, the profit will be credited to your margin account; if you close at a loss, the amounts needed to settle your loans will be deducted from your margin account.

When you open a position, you will see something like this beneath the chart:

Position: Long or short.

Amount: The net amount of the market's currency you have bought or sold. If your position is short, this value will be negative.

Base Price: The approximate price at which you would need to close your position in order to break even.

Est. Liquidation Price: The estimated highest bid (if your position is long) or lowest ask (if it is short) at which a forced liquidation will occur. Please note that this is only an estimate and has no bearing on when a forced liquidation will actually occur. The real price at which a forced liquidation will occur cannot be predicted with complete accuracy, as it depends, among other things, on the size and number of your open positions and orders, the current value of your collateral, and current market and order book conditions. See Margin Account to learn more about what determines the timing of a forced liquidation.

Unrealized P/L: Estimated profit or loss you would incur if your position were closed. Includes lending fees already paid.

Margin Account

On the right side of the margin trading page, beneath the markets box, you will see a summary of your margin account.

Total Margin Value: The total BTC value of all the currencies in your margin account. It is determined by the amount of BTC in your margin account plus whichever is less for each of the other balances in your margin account: the amount of BTC they can be sold for on the current order book, or the amount they could be sold for at the 12-hour average trading price in their respective markets. It is important to remember that the value of your margin account can change quickly as market conditions change.

Unrealized P/L: The approximate total profit or loss you would incur if all of your open positions were closed immediately with market orders, less unrealized lending fees.

Unrealized Lending Fees: The estimated total value of the interest you currently owe on your active loans.

Net Value: The sum of your Total Margin Value, Unrealized P/L, and Unrealized Lending Fees. It represents the current total worth of your collateral.

Total Borrowed Value: The total BTC value of your open loans. It is determined by the amount of BTC you are currently borrowing plus the amount of BTC that would be needed to buy on the current order books the total of all other currencies your are currently borrowing. It is important to remember that this value can change quickly as market conditions change.

Initial Margin: The percentage your Net Value is of the total value you can borrow. For example, if you want to borrow 3 BTC and your Initial Margin is 40%, you need to have at least 40% of 3 BTC — or 1.2 BTC — worth of funds in your margin account, less unrealized losses and lending fees.

Maintenance Margin: The percentage of your Total Borrowed Value that your Net Value must be in order to avoid a forced liquidation.

Current Margin: The percentage of your Total Borrowed Value that your Net Value currently is (in other words, Net Value over Total Borrowed Value). Current Margin is a critical value, because if it dips below your Maintenance Margin, your account will undergo a forced liquidation. For example, suppose you have 1.5 BTC in your margin account, and your Maintenance Margin is 20%. Borrowing 3 BTC, you open a long position in the XMR market. Now, in order to avoid a forced liquidation, the Net Value of your margin account must remain above 20% of the 3 BTC you just borrowed, or 0.6 BTC. If the price of XMR starts declining, the amount of BTC you can get by selling the XMR you just purchased diminishes, and you start to incur a loss. This is reflected in your P/L and Net Value. If the amount of this loss, together with the lending fees you owe, reaches 0.9 BTC, the net value of your margin account will be 0.6 BTC (1.5 BTC minus 0.9 BTC in unrealized losses) and a forced liquidation will trigger.

What Is a Forced Liquidation?

A forced liquidation is when all or part of your positions are closed automatically to prevent further loss and ensure you do not default on your loans. Forced liquidations are executed using one or more market orders; as such, order book liquidity at the time of these orders will affect the extent of the losses you incur from the liquidation. Forced liquidations occur when your Current Margin dips below your Maintenance Margin. It is strongly advised that you check the markets and your open positions regularly, mitigating your risk as necessary by reducing the size of your positions or transferring additional collateral into your margin account. Markets can change very quickly, and no guarantee can be made that you will receive a Margin Call warning in time for you to prevent a forced liquidation.

How Do I Margin Trade?

Once you have transferred funds to your margin account, all you need to do to margin trade is place buy and sell orders. Borrowing is all handled automatically. There are a few things you may need to know, though, so let's go over placing an order.

Two things are different compared to the buy box on the Exchange page: Tradable balance and the Loan Rate field. Your tradable balance is the amount of funds currently available to you for trading. Its value depends on your margin account balances, market conditions, and your open positions. The Loan Rate field allows you to specify the maximum daily interest rate you are willing to pay should your order open any new loans. Loans are always taken at the best available rate, so there is no harm in setting a value higher than the lowest rate offered. If no one is offering loans at or below the rate you specify, a trigger order will be placed instead of your margin order. When loans become available at your rate, the trigger order will grab it and place your margin order.

It is important to remember that although you can specify your maximum loan rate when you place an order, you may end up with a higher rate if you keep an order or position open for more than two days. This is because your loans may expire after that amount of time and be transferred to new lenders at the best available rate.

In Margin Trading, trigger orders and stop limit orders may end up triggering at an amount less than the amount you specify. This is because your tradable balance varies continually with market and order book conditions and the status and number of your open orders and positions.

Once you have filled in all the fields, click Margin Buy (or Margin Sell). Remember, even if your order does not fill immediately, you still incur interest fees on any loans used to place your order.

How Do I Offer Loans and Earn Interest?

If you prefer to earn interest on your funds instead of trading with them, you can lend them to other users. Click on the Lending tab at the top of the page, then select the coin you wish to offer in the My Balances box on the right. You will need to transfer funds to your lending account to offer them, which you can do from the "Quick Transfer" link in the offer box.

Rate: The daily interest rate you are offering your funds at.

Amount: The amount of funds you are offering.

Duration: The maximum number of days your funds will be held in a loan.

Auto-renew: Check this box if you want your funds to automatically be offered again at the same rate after the loan they are used in closes.

Once you have placed your offer, it becomes available for margin traders to use. Margin traders will consume lending offers starting with the lowest rate. If a lower rate becomes available after a margin trader's loan has been opened, the contract may be transferred to the lower rate. Remember, a loan can always be closed early by the taker, so be sure to offer competitive rates if you want the best chance of your offers being taken.

When your loans are being used by margin traders, you are earning interest on them, which is paid to your lending account when a contract closes. (Poloniex takes a fee of 15% from the interest you earn, so be sure to consider that when you place your offers.) Your active contracts are listed under My Active Loans.

Although you cannot cancel an active loan, you can disable Auto-renew, which will ensure that your funds return to you no later than the number of days listed under Duration.